20 Inperfect Competition 1 - 4/7/2009 Topic 9: Competition...

4/7/20091Topic 9: Competition between firms (1)USC MarshalBertrand and Cournot competitionIntroduction• Many markets are best characterized as oligopolistic markets – markets with a few large producers– Cars, computers, home electronics,…• In such markets, the firms need to worry about the USC Marshalstrategic interaction among themselves– Use game theory and Nash equilibrium to analyze the equilibrium in such marketsIntroduction• Models of imperfect competition:–Bertrand competition• Pricing choice with homogeneous products–Cournot competition• Choice of capacity/output with homogeneous USC Marshalproducts–Competition with differentiated products• Pricing choice with differentiated products• Various models of product differentiation

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4/7/20092Bertrand competition•Bertrand competition:– Firms choose their price, produce a homogeneous product– Consider two firms (duopoly) producing steel– Marginal cost of a ton of steel is $2USC Marshal– The total demand for steel is Q = 15-2min(P1,P2)• The firm with the lower price captures the whole market while the other firm sells nothing–What price/output would the firms choose if they could choose it cooperatively?–What price do the firms end up choosing when choosing non-cooperatively?Bertrand competition•Cooperative outcome:– Firms choose a price that maximizes overall profits:PmaxP−215−2P15−2P−2P−20→P434USC Marshal– This price leads to an overall demand of Q=5.5– To split the profits, each firm will produce 2.25 units of outputBertrand competition•Non-cooperative outcome:– Each firm chooses their price to maximize their individual profits– In equilibrium, each firm ends up charging P=2, making zero profitUSC Marshal– Key: the product is homogeneous, which means that the customers care only about the price and thus will buy only from the firm offering the lower price• Each firm has an incentive to undercut the other to gain a bigger market share until all profits are competed away

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